The Australian M&A Outlook 2023: Infrastructure Industry Insights

Against the odds, opportunities and optimism for open-minded investors

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Infrastructure has long been a safe bet during turbulent times and the current market is no exception. But this is not the asset class as you know it. Infrastructure in 2023 is characterised by new asset types and increasingly complex deals as investors cast their nets more widely. Welcome to Infrastructure 2.0.

Overview: New asset types, but age-old considerations

It’s back to the classroom for innovative infrastructure investors as new asset types abound. There's an overarching theme of long-term essential services guiding investment possibilities right now, ranging from fibre to electricity metering to waste management. There are plenty of opportunities for open-minded investors and so the general sentiment is one of ‘education mode’ as investors tackle assets that are unlike target assets they’ve seen in the past.

There’s lots to learn as investors uncover: How does the market operate and how is the target asset positioned? And how will this market look in five years?

Yet even as some assets look different in 2023, the usual provisos around barriers to entry still hold. Investors still need a high degree of certainty that revenue streams can be maintained, as well as appropriate protection from downsides. Investors should consider whether the asset could be affected – positively or negatively – by regulator or government policy intervention, and what this might do to revenue streams. Similarly, they should be mindful of new products or new technologies. Could the asset be superseded and/or what ongoing capital investment may be required to adapt?  

Consequently, dealmakers should consider: Does the risk and return of these newer asset classes align to our mandate and investment criteria? What characteristics are similar/different to our core infrastructure? Is the asset the right fit for our portfolio?  

Infrastructure in 2023 is characterised by new asset types and increasingly complex deals as investors cast their nets wider.

Current landscape: Increased complexity and carve-outs

It’s early days, but there’s every chance 2023 could be another strong year in infrastructure M&A. Infrastructure investments are generally better at withstanding volatility, and, true to form, the asset class hasn’t slowed as much as other parts of the economy, such as retail.

Having said all that, it is a challenging market right now. 

There aren’t enough opportunities to deploy capital in core infrastructure investment and, where opportunities do exist, deals are highly competitive. We’re seeing plenty of funds looking at greenfield opportunities due to a lack of brownfield opportunities. Also, many funds’ portfolio allocations have started the year overweight in infrastructure, thanks to falling equities values. Plus, there just hasn’t been the same level of privatisation we’ve seen previously. 

As a result, funds are broadening their horizons. We’re also seeing increased complexity of deals such as carve-outs and public-to-private transactions.

In fact, we’re seeing a major trend towards carve-outs, particularly Core Plus investments. Many of these carve-outs are driven by questions around the ability to lease (versus own and get the same outcome), as businesses ask themselves: Can we monetise our assets while maintaining a competitive advantage? Can we partner with the wall of capital coming out of super funds? This is particularly the case where organisations have a funding requirement for growth. 

Investors are increasingly willing to take on additional risks in the search for higher returns. Naturally, understanding this risk requires greater insight and operational and commercial due diligence to identify potential exposures and/or value uplift. This is where operational capability comes into play as a potential competitive advantage for investors.

Two key themes continue to underpin deals, with increasing prevalence

Digitisation

Digital wasn’t always in the investment criteria for funds. In 2023, however, digitisation is core to the economy and so inherently digital infrastructure should be considered core, too. (Albeit, with the right assets, and with the right barriers in place.) 

As digitisation accelerates, consumer hunger for data is growing. For example, households are increasingly conscious of managing their energy consumption and we can expect a rise in consumer demand for domestic digital infrastructure such as smart meters that monitor the energy usage of household appliances.

Renewables and Energy Transition

Investors also want to be in the energy transition space, although we’re seeing two types of investors here: i) more hesitant investors who fear they don’t have a mandate for investing in a rapidly evolving (and uncertain) energy sector, versus ii) bold investors such as those involved in the $18bn Origin takeover bid.

There’s also been some suggestion that Australia’s major players aren’t investing heavily in renewables because the risk and returns aren’t quite right. While there is room for greater policy certainty, ultimately market pricing needs to provide the required returns. Furthermore, supply chain uncertainties are lingering due to geopolitical uncertainties and ongoing impacts of the pandemic. This is expected to impact delivery timelines and construction costs for those assets in the development pipeline.

In the meantime, the platform model is proving popular, where individual asset acquisitions have been built up and pulled together into a portfolio to generate better returns. And where building from scratch takes too long or isn’t an option, there’s also the option for portfolio deals (as happened with the Tilt Renewables transaction). True, the premium paid for operating assets means returns aren’t always as good. And finding good renewables developers and/or projects with deliverable pipelines can be a challenge. Effectively, the options provide alternatives for a variety of bidders depending on risk appetite, timeframe, and capital to be deployed.

Meanwhile, the investment in firming capabilities (e.g. batteries) has yet to take off in a really meaningful way. This is largely due to the uncertainty of revenue on such projects, and to date successful projects have generally been greenfield projects, supported by state government initiatives and offtake contracts. Similarly, newer technologies (e.g. biofuels, hydrogen) remain at pilot stages.

However, the investment community is generally accepting of the short-to-medium term planned exit of coal-fired generation, and the need for new technologies. We’re seeing the emergence of several specialist energy transition funds and the bravest investors accept their responsibility to be part of the clean energy transition and invest in the sector. We expect such funds to continue to seek opportunities. They also recognise the size of the opportunity because, make no mistake, there’s an ESG premium attached to these assets.

Even as some assets look different in 2023, the usual provisos around barriers to entry still hold, and investors still need revenue certainty and appropriate protection from downsides.

Market outlook for 2023: Something for everyone

Investors may be tempted to sit on their hands in 2023 because volatile equity markets, inflationary pressures, rising interest rates, and global instability aren’t exactly conducive to M&A activity. 

And yet the market always finds a way. 

Super funds will continue to deploy capital, and new assets will continue to pop up. Infrastructure is evolving, and investors are keeping pace. We’re seeing infrastructure investors consider technologies they wouldn’t have touched a decade ago. Also, there’s a rise in impact funds (or the equivalent), and plenty of R&D venture capital-style players in the market right now.

We’re also seeing portfolio diversification – both in terms of the types of assets being considered, as well as the geography of those assets. Australian super funds have established themselves in the UK and US for example, and vice versa.

In short, there are different types of assets for different funds, and right now there’s something for everyone. It all comes down to: What’s the mandate of your fund? What’s the equity cheque? What’s the return? Where do you perform best?

 


What's next for dealmakers?



Five opportunities

Given the challenging market right now, it’s important for investors to consider what operational capability they can bring to the table to monetise the target asset in the best way possible. This is especially pertinent right now as many infrastructure assets are exiting from existing businesses, which means they don’t necessarily come with management teams.

Also, consider your exposure to rising inflation. On the whole, infrastructure assets are highly resilient to inflation, but current conditions are testing asset owners’ abilities to pass on contracted price increases linked to the consumer price index, particularly when the end user is highly visible and/or consumers such as with road tolls.

Dealmakers should further review the extent their revenues and costs are protected/exposed, and also ensure this a consideration in due diligence. Note, this doesn’t apply exclusively to new investments. A fresh look at existing portfolios should also be considered - and the questions asked: Are we overexposed to certain factors? Should divestments be considered?

Notably, there’ll be plenty of opportunities in infrastructure in the coming months. We’ve identified five key areas:

  1. Given the portfolio diversification we’re seeing in the marketplace, consider: Where are the opportunities now?
  2. Will there be opportunities to co-invest alongside governments in the wake of the 2022 Victorian and South Australian state elections or the 2023 NSW state election? (For example, what’s the impact of the Victorian government’s decision to reintroduce the State Electricity Commission and the necessary funding of electricity infrastructure requirements?)
  3. What are you doing re: future investment opportunities? Are you thinking about what infrastructure might look like in 10 years? Where will you invest? What are you doing around digital telcos, EV charging networks, firming technologies for renewables, hydrogen infrastructure, and more? How are you getting ahead of the curve?
  4. How might you play the energy transition or in the circular economy?
  5. Are you looking to global experiences for clues about where Australia might be headed? What can we learn, for instance, from the experiences of investors in sustainable aviation fuel in the US?

Explore our national findings plus other industry insights as part of this series
 

Contact us
 

Andy Welsh
Infrastructure Deals Leader and Power and Utilities Deals Leader

Cameron McKenna
Infrastructure Deals Partner

Haider Kamal Ansari
Infrastructure Deals Director




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